A Primer For Investing In Agriculture

Long, long ago, some ancient human decided that planting seeds and reaping the produce was a safer approach to food production than chasing larger, stronger and toothier animals. Since that time, the agriculture sector has flourished, withered, rebounded, crashed and bounced back again. With each passing year the world is seeking to feed more people with less land, so the interest in agriculture production as an investment has grown right along with the world population. In this article, we'll look at the agriculture sector and the different ways investors can approach it.

What Is Agriculture? Like all sectors, agriculture is really a spectrum of activities that overlap with each other and even with other sectors. The simplified version is that producers grow crops and raise livestock to sell to processors, who prepare and package the product before it ends up on the grocery store shelves. Producers and processors are in the agriculture sector, while the retailers are part of the retail sector - nice and clean.

However, the reality is that the agriculture sector also holds agribusiness companies. There is no hard and fast rule on what makes an agribusiness, but if a company is pulling half of its revenue directly or indirectly from agriculture, then it is an agribusiness. To see how this can get confusing, consider a company like the Potash Corporation of Saskatchewan (POT). POT is basically a mining company, pulling stuff out of the ground and selling it. The stuff it pulls out, however, is fertilizer, so the big buyers are farmers; therefore, POT is an agribusiness despite the fact that it looks suspiciously like a mining company.

The same is true for manufacturers like Deere & Company (tractors) and other companies that, at first glance, don't have anything to do with growing corn or slaughtering pigs. On the plus side, the range of companies with interests in the ag sector can open up interesting plays on the "people gotta eat" theme that sometimes drives ag investment.

Seeding Your Portfolio with Ag InvestmentsAgriculture is arguably the oldest industry in the world, so it is not a big surprise that there are a number of different ways to approach investing in it.

FuturesThe futures market was originally created to reduce some of the risks facing producers in the agriculture sector. Commodity investors have been trading contracts for corn, cotton, hogs, cattle, soybeans, sugar and many other agriculture products for centuries. Futures offer investors an easy way to play price changes for agricultural products, without actually buying a farm and putting in all the hard work. That said, futures may be a bit intimidating for a beginner. It is best to learn about the market and study historical price movements before you venture in. You don't want to wake up one day and find someone dropping off your 50,000 pounds of cotton.

Stocks The overall trend in agricultural production for the last half century seems to be go big or get out. This consolidation of farmland by fewer and fewer people in order to reap economies of scale has carried over to the business side. Many of the agricultural stocks are huge companies that have global reach. There are also companies like Dole that grow and distribute their products. You can pick among agricultural chemicals companies like Agrium, Monsato and Potash, equipment manufacturers like Deere and Kubota or even processors and distributors like Tyson Foods Inc and Dole Food Company Inc.

Agriculture stocks are just like any other stock and can be evaluated based on assets, P/E, dividend yield or whatever metrics an investor chooses.

ETFsIf you want to invest in the broader sector in the hopes of a fundamental shift that drives up the price of the vast majority of ag stocks, then exchange-traded funds (ETFs) might just be what you are looking for. Agriculture ETFs can either be a collections of ag stocks that would cost you a princely sum to assemble on your own, or they can be a collection of futures contracts that are commodity specific. Both types allow for broader investment and theoretically lower the risks by spreading your investment. The futures-focused funds also take away the risk of having to take delivery personally, preventing the aforementioned cotton storage issue.

Off the Beaten PathAlthough futures, stocks and ETFs are the main entry point into the agriculture sector for most investors, there are alternatives that are either more speculative or more capital intensive (or both). These include exchange-traded notes, investing in farmland directly or through REITs, entering share cropping partnerships with producers and so on. Of these investments, the farmland REITs may be the most attractive. These REITs buy up tracts of farmable land and rent or hold it. The value of farmland has seen some significant increases in value over time and is often seen as a hedge against inflation. These REITs are relatively new, however, and investors have been burned many times by believing land or real estate is always going to appreciate.

The Bottom LineThe agriculture sector is more investor-friendly than most people expect. This is simply because it has been an investment destination for hundreds of years. The futures market grew up within agriculture and many ag stocks can trace their history back to a time when shooting at each other with pistols was an acceptable way to settle an argument. The maturity of the ag sector and the diverse means of investing in it, combined with new concerns over worldwide food consumption, make it a compelling option for many investors.